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Price Risk Management Basics

 

Cost of Production

• The first and most important first step in developing a risk

  management program

• Calculates your costs

• Determines your breakeven

• Helps you establish a realistic target price for your cattle

 

Basis

The basis is the difference between the cash market and the

 futures at the time of delivery.

 

Forward Contracting

Forward contracts are written with a specific packing plant for

 future delivery.

Advantages

• Basis is guaranteed

• Final price is guaranteed

• Premiums for exceeding contract specifications

 

Disadvantages

• Packer has the ability to pull cattle and hogs when they need

  them rather than when the producer wants to deliver them.

• Contracted cattle are a captive supply to the packer

 

Hedging

Contracts are sold directly off the Chicago Mercantile Exchange

 and are not committed to a specific packing plant.

Advantages

• Deliver to the packer of your choice

• There is no captive supply

 

Disadvantages

• Final price is not determined until the time of delivery

• No basis guarantee – basis is at risk

 

Options

Puts and calls each offer an opportunity to take advantage of

futures price movements without actually having a futures

 position.

• The buyer of an option has the right, but not the obligation, to

 buy or sell a futures contract, at a specific price on or before a

 certain expiration date

• The seller of an option has the obligation to buy or sell a futures

 contract, at a specific price on or before a certain expiration date

 

 

Risk Management Worksheet